What are ELSS Funds?

20 Aug, 2021

8 min read

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A form of a mutual fund, an equity-linked saving scheme (or ELSS) allows individuals to invest their money in a tax-saving mutual fund.

The funds invested are mainly directed towards the stock market or equity. They serve as viable saving instruments and have a short time frame during which investments can’t be cashed in. This time frame amounts to 3 years. Read on to understand all the ELSS funds entail.

Understanding How ELSS Mutual Funds Work

ELSS funds can be understood to be equity funds that have a diverse profile. These funds direct a majority of their funds towards stocks of listed companies in accordance with certain proportions while keeping in mind the broader investment objectives that the fund has.

Stocks are selected across market capitalization and diverse industries. The aim of each of these funds is to maximize the amount of capital appreciated over a long time frame. Here, fund managers are responsible for selecting stocks after doing ample research on the market such that they are able to acquire portfolio returns keeping in mind the risks involved in the same.

Things to Consider Prior to Investing in ELSS Mutual Funds

Prior to investing in an ELSS Mutual Fund, it is important to consider the following factors.

Fund returns – Prior to selecting a fund, it is important to consider the fund’s performance with its rivals and understand where it stands such that you can ascertain whether or not it has performed consistently in the past. Should the fund outperform its benchmark or its rivals then it is capable of delivering high returns.

History – Fund houses that have consistently performed for a vast period of time i.e., 5 to 10 years are worth investing in. 

Expense ratio – This ratio helps ascertain the portion of your investment that is allocated towards the management of the fund. Should a fund boast a lower expense ratio, it implies the take-home returns you walk away with are more which makes them ideal.

Financial parameters – In order to better understand the performance of a fund it is important to consider a number of financial parameters including but not limited to Alpha and Beta, Sharpe Ratio, and Standard Deviation. Funds that have greater standard deviation and beta are riskier investments in comparison to those that have lower standard deviations and beta. Funds that have higher Sharpe ratios are worth investing in.

Fund manager – Fund managers play a vital role in an ELSS Fund as they are responsible for managing your funds. Your fund manager must be well versed with the markets and have ample experience selecting the stocks needed to create a strong portfolio.

Benefits Associated with Investing in ELSS Mutual Funds 

ELSS Mutual Funds bring with them a host of advantages some of which have been touched upon below.

Limited lock-in time frame – ELSS Mutual Funds are notorious for their least time-consuming lock-in period that amounts to three years. As a result of this, ELSS Mutual Funds afford their investors a greater amount of liquidity in the medium term.

Potential for higher returns – Other tax-friendly investment options that qualify under Section 80C of the Income Tax Act of 196 1 such as fixed deposits or public provident funds are fixed income products. ELSS Mutual Funds in contrast are linked to the market. They have the potential to accrue greater returns over the course of a medium to long investment time frame.

Superior post-tax returns – Long-term capital gains accrued via ELSS Mutual Funds are tax-free up to the INR 1 Lakh limit. Should you acquire gains that surpass this threshold, they are taxable at a 10 percent rate. These lower tax rates interspersed with superior returns allow you to maximize your post-tax returns.

Easy Investments – Investing in an ELSS Mutual Fund has never been easier owed in part to the monthly systematic investment plan.

Investment Options in ELSS Mutual Funds

As an investor, you can invest in ELSS Mutual funds in any of the following ways.

Growth option – Here, you do not acquire any benefits in the manner of dividends. Instead, you will only acquire gains once you get ready to redeem your holdings. This allows the total NAV to appreciate thereby multiplying your profits.

Dividend option – Here, as an investor, you avail yourself of benefits in the form of dividends that are entirely tax-free. These dividends are only handed out when the profits acquired are excessive.

Dividend reinvestments option – Here, as an investor, you reinvest your dividends to enhance your NAV. This is most beneficial when the markets experience an upswing and are likely to continue in the same vein.

Conclusion

Prior to investing in an ELSS Mutual Fund, it is paramount to do ample research such that you invest your money in the best possible way. The tax exemption on offer under Section 80C of the Income Tax Act of 1961 makes ELSS Mutual Funds attractive investment options.

FAQs

Q1. What taxes apply to funds generated via ELSS Mutual Funds?
A1. Short-term capital gains derived from ELSS Mutual Funds have a 15 percent tax applicable to them whereas long-term capital gains derived from ELSS Mutual Funds only attract taxes should they exceed an amount of INR 1 Lakh. If this is the case, a 10 percent tax is applicable to them. 

Q2. Who are ELSS Mutual Funds the most ideal investments for?
A2. ELSS Mutual Funds make for the most ideal investments for first-time investors as well as salaried individuals. 

Q3. Why should I invest in an ELSS Mutual Fund?
A3. You should consider investing in an ELSS Mutual Fund as it boasts a number of benefits that go beyond tax saving that Fixed deposits and NPSs provide. You stand to benefit from the least lengthy lock-in period and can accrue greater returns in comparison to other tax-saving schemes.

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